Clawbacks force earlier, poorer retirement: study

(October 6, 2005) Canadians who choose to retire later in life should not be penalized with clawbacks of government benefits, according to a report published today by the C.D. Howe Institute.

Currently, these late-retirees are rewarded with higher pension payments from the CPP and Quebec’s QPP, but their income-tested Guaranteed Income Supplement (GIS) benefits are then often clawed back by Ottawa.

The report, entitled Making It Pay to Work: Improving the Work Incentives in Canada’s Public Pension System, says such clawbacks encourage early retirement among seniors who really can’t afford it.

“The system encourages retirement too early with too little pension income,” writes the report’s author, Kevin Milligan, assistant professor of economics at the University of British Columbia. “It is particularly striking that this problem hits low-income seniors the hardest — precisely those who may want to work a few more years in order to buttress their retirement well-being.”

While the government would end up paying more to these late retirees, Milligan says this would be offset by the additional income tax collected from their added years of employment.

Accepting that no-one wants to work their entire life, he says many people are retiring because they can’t afford to work later in life.

“A subtle yet strong effect of public pensions on the incentive to work comes from the interaction of the CPP/QPP with the GIS,” he writes. “An individual considering an extra year of work between the ages of 60 and 64 must compare the worth of receiving a lower but immediate pension and that of the ‘bonus’ paid by the actuarial adjustment for delaying retirement.

“The pension recipient who also receives the GIS will have 50% of the actuarial “bonus” clawed back from the GIS benefit,” he explains. “If the GIS clawback decreases the actuarial adjustment, an individual must work more years in order to receive the same net pension increase as someone who is not subject to the clawback.”

“The GIS gives Canada’s low-income seniors a very strong disincentive to work, since an extra dollar of earnings lowers the benefit by 50 cents — in other words, reducing the return from working by half,” he explains.

Milligan calls for a system which would allow the actuarial adjustment in the CPP/QPP benefits to be sheltered from the GIS clawback, nullifying the disincentive to prolonging employment.

“Instead of using the actual amount of CPP/QPP pension income in calculating the GIS entitlement, the amount of CPP/QPP pension income in the GIS calculation could be held fixed,” he suggests. “With a fixed amount, the dynamic interaction between the CPP/QPP actuarial adjustment and the GIS clawback would disappear, as the GIS entitlement would no longer depend on the size of the actuarial adjustment made to CPP/QPP benefits.”

Staff

The staff of Advisor.ca have been covering news for financial advisors since 1998.